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INDIVIDUAL ASSIGNMENT

BFN 3073 CORPORATE FINANCE

LEVERAGE

NAME ID NUMBER
K.K.KAVITHARANE A/P KUPPUSAMY 1207201012
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Relationship between Leverage and Firm Performance

Introduction

This article investigates the link between financial Leverage and company

performance. Because financial Leverage may be used to discipline leadership, it can have a

favorable impact on a company's overall performance (Lin et al., 2020). Because of this, it is

projected that financial Leverage will have a good effect on the firm's performance. Debt-

laden enterprises may not always benefit from this strategy. Because of the detrimental

impact on a company's performance that excessive debt levels may have, it's essential to

understand. As a measure of financial Leverage, the debt-to-total-assets ratio is utilized,

while as a measure of company performance, return on assets, return on equity, and income

increased are all used.

Firm performance

According to Mikalef & Gupta (2021), firm performance is a measure of an

organization's capacity and willingness to make the most of its available resources to meet its

predetermined goals while also considering the interests of its customers. These guidelines

define firm performance as "the difference between what an organization really produces and

what it had anticipated to produce" (or goals and objectives). It also measures an

organization's success or accomplishments after a program or project as planned.

Profitability, product market share, and shareholder return all fall under the umbrella term

"organizational performance," which covers various aspects of a company's operations (total

shareholder return, economic value-added, etc.). The phrase "firm performance" is more

inclusive.

There are several benefits to having a well-run business, including creating new jobs

and a rise in people's disposable income. In addition, a company's capacity to generate a

profit allows it to pay its workers more, upgrade its manufacturing facilities, and provide its
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consumers with higher-quality goods. Strategic management necessitates an evaluation of an

organization's performance. There are a number of measures that most executives, investors,

or stakeholders use to gauge how their companies are performing in the industry and what the

future may hold. There are several ways to evaluate a firm's performance. Many publications

utilize profitability and productivity to assess a firm's success. Profitability is a crucial

indicator of a firm's success. Profits may be measured in several ways, from directly on

financial statements to using financial ratios (e.g., return on assets, etc.). These later locations

are less often employed due to data access, although they occur in the research.

Firm-level oriented process a firm's effectiveness in employing production inputs.

Productivity is intimately tied to the sort of technology utilized, generally labor- or capital-

intensive technology (Gouin-Bonenfant, 2018, December). Economic output is another

critical success metric (TFP). When production is unavailable, deflated strong sales may be

used to proxy output. Still, the quality of this proxy is highly dependent on the deflator and

hence the homogeneity of the produced commodity. Process and innovativeness are

significant precursors of performance.

Leverage

An investment or project may be undertaken using money borrowed, known as

"leverage." A project's prospective profits are increased as a consequence of this strategy. On

the other hand, Leverage increases the possibility of a loss if the investment does not turn out

as expected. "Highly leveraged" refers to a business, asset, or acquisition with more debt than

equity.

Entrepreneurs alike make use of the term "leverage." An investment's profits may be

significantly boosted by using Leverage. Analytical techniques, including options, futures,

and margin accounts, increase the Leverage on their assets. A company's assets may be
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financed through Leverage. Instead of issuing shares to obtain cash, corporations may utilize

debt financing to invest in a company's activities to create shareholder value. Leverage is

available to investors who aren't comfortable employing it outright, but several methods do

so. They may invest in firms that utilize Leverage as a regular part of the company without

raising costs.

When evaluating the debt and equity of various companies, investors may apply the

income statement technique and invest in businesses that employ leverage to their advantage.

Return on equity (ROE), debt-to-equity (D/E), and return on investment (ROI) measures help

investors evaluate a company's investment plan (ROI).

Leverage occurs in many forms, including operational and financial, and combined. It

is vital to remember this while evaluating these figures. The degree of operating Leverage is

used in technical analysis (Dong et al., 2018). EPS changes divided by EBIT changes over

time may be used to determine a company's operational Leverage. This can be done by

dividing the EPS changes by the EBIT changes. Another way to figure out a company's

operational Leverage is to divide its EBIT by its EBIT less interest expenditure. Increased

operating Leverage indicates a greater degree of volatility in a company's earnings per share

(EPS).

There is a drawback to using Leverage. The instrument of Leverage has several facets

and is rather sophisticated. Leverage may be lucrative in principle and practice, but the

inverse is also true. Both profits and losses may be magnified by using Leverage. If an

investor uses Leverage to invest money, their loss is significantly more significant than it

would have if they hadn't leveraged their investment. As a result, novice investors are

frequently advised to avoid Leverage until they have gained more expertise. A corporation

can build shareholder wealth by using Leverage. Still, if it fails to do so, the financial burden

of interest and the credit risk of failure devastate value creation.

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Raise assets, cash flow, and profits via the use of Leverage in the financial sector.

However, Leverage may also amplify losses. Leverage may be classified as either economic

or operational. A company may borrow money by issuing fixed-income securities to raise its

financial Leverage. In terms of financial Leverage, corporate accounting leverage grows

when it utilizes financial Leverage. Interest payments eat into net profits, so more capital is

available to improve returns. An increase in income or profit paired with an increase in fixed

operating expenditures gives a corporation operational Leverage, which increases or

decreases the firm's operating margin.

Finding: Relationship between Firm performance and Leverage

Because financial Leverage may be used to discipline management, it can have a

favorable impact on its overall quality. As a measure of financial Leverage, the debt-to-total-

assets ratio is utilized. In contrast, as a measure of financial results, return on assets, return on

equity, and income increased are all used.

Salehi et al. (2019) argue that there is a link between a company's success and its

financial leverage level. There is a direct correlation between financial Leverage and the level

of competitiveness of a corporation and between financial Leverage and the level of product

differentiation. It adds to the literature as part of an effort to solve the problem of inconsistent

findings and evaluate alternative ways to analyze the link between financial Leverage and

company performance. Many questions remain about how financial Leverage affects a

company's performance and how it competes in the marketplace.

When analyzing the link between Leverage and performance, several studies suggest

that rivalry in the market is essential, anticipating that competition would rise as leverage

increases. Because of the need to make regular payments to creditors, companies that employ

Leverage generally open the door to competition. If it fails, the company will go out of
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business. As a result of their debt, companies are more likely to compete. Because of the

reduced risk, companies may be more active in the marketplace while using Leverage.

According to earlier studies, a company must choose between product differentiation

and a low-cost strategy. Its uniqueness or low-cost approach will influence a company's

financial Leverage and success. Leverage to boost efficiency will benefit lenders more since

they monitor low-cost strategy firms. On the other hand, product differentiation producers

invest more money in R&D to stay up with their competitors' innovations. Financial

Leverage has an impact on profitability. Product differentiators have a more significant

negative relationship between Leverage and performance than cost leaders.

Conclusion

This research examines the link between financial Leverage and company

performance. Previous research has produced a mixed bag of outcomes. It has been suggested

that to sort out the messy data and evaluate if alternative techniques affect the findings of

studies looking at the link between financial Leverage and company performance, businesses'

business strategy, and competitiveness should be considered. There is a lack of research on

the connection between financial Leverage, company performance, competitiveness, and

corporate strategy, particularly in emerging nations.

After decades of study, there is still no universal agreement on the link between

financial Leverage and corporate performance; firm performance may be affected or not by

Leverage, which is the source of these unanswered questions in the literature. An essential

question in finance is whether or not financial Leverage affects a company's success. Some of

these arguments may have been impacted by two factors, namely the various measurements

of performance (either fundamental accounting ratios or more complex metrics on the one

hand, or the other hand, some of the studies were undertaken on a single nation). A country's

institutional structure may impact the outcomes of this research, resulting in different
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findings on the link between financial Leverage and performance. However, this study

presents a new technique to determine whether there is a link between financial Leverage and

financial success using data from publicly traded Nigerian firms, which is a novel approach.
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References

Dong, W., Liao, S., & Zhang, Z. (2018). Leveraging financial, social media data for

corporate fraud detection. Journal of Management Information Systems, 35(2), 461-487.

Gouin-Bonenfant, E. (2018, December). Productivity dispersion, between-firm

competition, and the labor share. In Society for Economic Dynamics. Meeting Papers (Vol.

1171).

Lin, W. L., Yip, N., Ho, J. A., & Sambasivan, M. (2020). Adopting technological

innovations in a B2B context and its impact on firm performance: An ethical leadership

perspective. Industrial Marketing Management, 89, 61-71.

Mikalef, P., & Gupta, M. (2021). Artificial intelligence capability: Conceptualization,

measurement calibration, and empirical study on its impact on organizational creativity and

firm performance. Information & Management, 58(3), 103434.

Salehi, M., Tarighi, H., & Rezanezhad, M. (2019). An empirical study on the

influential factors of social responsibility disclosure of Iranian companies. Journal of Asian

Business and Economic Studies.